Wednesday, 29 August 2012

Who is winning the bidding war?

The Prime-Minister’s office released a statement rejecting Richard Branson request for a review of the decision to award the West Coast rail network franchise to FirstGroup.  Virgin have now forced a delay by requesting a judicial review? 

Branson’s reaction does not come as a surprise to anyone with experience of large project bidding.  He claims that FirstGroup cannot create enough new seats to generate the extra revenue.  The deal seems to include higher payments to the government in the final years of the contract and Branson implies that they will hand back the franchise before these fall due.  Tim O’Toole states that their bid is deliverable and FirstGroup point to Virgin’s service record, implying that they will do better. 

Here are three reasons why the Government may be missing a golden opportunity to:

1. Demonstrate that they are wily business men and women. 

The real question in the public mind is - should any contract licence be awarded to the “highest bidder” without a full examination and public explanation of the winning bidder’s business model? 

The same public review should apply to large government sponsored projects that are awarded to the “lowest bidder”.  Perhaps this should apply to any deal where success can only be measured after the tenure of the incumbent government.  Here is a true story that highlights why a process needs to be more than just “fair and robust”.

A competitor won a bid with an 8-figure price that was 20% below most of the other experienced bidders.  Bids were sealed and opened publicly to avoid any concern of impropriety.  We were keen to understand how, with a very fixed specification, the winning bid was so much cheaper than everyone else.

The answer was not hard to find.  Engineer’s time and salaries represented a major part of this 10 year project.  Their engineering costs were one-fifth of the rest of us.  Essentially, they were gambling their profit and reputation on a number of factors occurring during the delivery of the project: 

-          they planned to use local, less experienced workers to do more of the work than we felt appropriate (no I’m not talking about G4S);

-          they would load the inevitable contract variations (that normally did not go back out to open tender) with higher than required engineering and material mark-ups to add back profit, and increase the bill to the tax-payer (no I am not talking about the Channel Tunnel);

-          they could sacrifice quality because it would be more than 10 years before anyone could start to measure their work from a reliability or performance basis. 

I am not complaining.  You could say that Virgin have also been out-smarted by a wily competitor.  Once the numbers are that large, it is a war and “nothing is fair”.  You could argue business ethics and reputation are more important in the long run, but which set of shareholders do you think will be happier in the short-term?

2. This is another industry at risk of dominant player behaviour.  I worry about the “largest UK operator” winning this contract.  So much for the competition we were promised when the rail network was privatised.

The reality is that customers and employees are impacted by higher-than-inflation price increases across almost all the privatised industries.  This extends to situations were a dominant player controls the supply chain and transfer pricing. 

Over 150,000 customers have signed the petition, so I am delighted that pen and paper will be left dry today. 

If FirstGroup’s business model is sound (and I have no reason to suppose that it is not) then they should not object to levelling out the repayments to the Government over the life of the contract, placing sums in escrow or including a substantial penalty payments clause in the contract for any early return of the licence. 

3. Demonstrate to the public that the outcome of their bidding process is correct.  "As far as the prime minister was concerned, there was a fair and robust process and the right decision has been made," Prime Minister David Cameron's spokeswoman told Reuters.

 It is often easy for a leader to ask the wrong question of those who need to justify a decision.  Of course, everyone will confirm to him that the right decision has been made… but do 150,000 people believe it?  History suggests that the decision-makers of long-term contracts are seldom around when the tax-payer or customer has to pick up the bill.
The Government should choose a different path for this and any other major contract.  They should buy themselves a little time on this one to prove to the British Public that this decision is correct rather than appear to rush it through during the holiday season.  

Wednesday, 1 August 2012

An Executive View Newsletter

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